The concept of structured settlements is finding its way around the world, writes Randy Dyer.
No one knows who first used a structure to settle an insurance claim. It probably occurred in the early 1970s, probably in a medical malpractice claim. What we are sure of is that the concept of structured settlements revolutionized the insurance claims industry in the United States, and it now appears that the concept is finding its way around the world.
The requirement that tort liability compensation be paid in a lump sum is grounded in English Common Law. However, it has always been a source of some strain on the legal system that courts are required to judge the dollar value of a physical injury. Once liability issues are resolved, such matters come down to indemnity. What has been lost, and what it is worth. Viewed in that light, structured settlements are a natural answer. Under a structured settlement, plaintiff and defense negotiate compensation based on real or predictable circumstances in the life of the victim. If future wages have been lost, they can be replaced in essentially the same form they would have been received if the injury had never occurred. Similarly, ongoing medical care can be planned and funded. Medical equipment can be secured and the funding for its replacement can be scheduled into the plan. The needs of dependents can be included as well. In the end, a settlement based on a structured plan comes the closest to indemnification of actual loss.
The US Congress codified the laws that govern the tax treatment of structured settlements in 1983. Since that time, the use of structures has grown exponentially. While structures are not appropriate in all cases, in claims where the losses extend into the future, they have been an extremely valuable tool to achieve pre-trial settlement. Now, the concept is taking hold around the world.
It is natural that the structured settlement concept should have penetrated the US-Canada border first. For many years, Canadians have used the US Sunbelt as their vacation site, and when such travel results in an injury, they find themselves in the nexus between US and Canadian law. It was just such a traveler who was offered the first structured settlement. At first, Inland Revenue Canada resisted favorable tax treatment for structured settlements. However, when Canadian insurers realized the value of structures, the industry embraced the concept. With a change in the law, Canadian insurers now routinely use structures to settle physical injury cases and cross-border claims enjoy similar rules, and the same results.
Sam Mansell1 suffered brain injuries during his birth in September of 1987. The parties agreed to an out-of-court settlement in September of 1998. All in all, it was just another liability claim. However, this settlement was for £3.9 million - a record high for medical negligence claims in Great Britain up to that time. What made that case unique was that it was the first to be decided after the House of Lords' Wells v. Wells ruling on how compensation should be calculated sent shock waves through the casualty insurance business last fall. It was to be the first of several records to be broken in rapid succession.
In July, the House of Lords ruled that courts should calculate damage awards on the basis that victims would invest in the more conservative index-linked government stocks (ILGS) rather than the basket of equities as the courts have previously assumed. Using this assumption, Courts must increase lump sum awards to account for the difference between the equity investment assumption at 4 - 5% per year and the ILGS at 3%. The decision rocked the National Health Service whose litigation costs had already risen by a staggering 15% over the past five years. Industry analysts estimated that the Wells decision created a framework that would increase compensation payments by up to 40%.
The insurance industry immediately began to discuss options that would save them from destruction. Two options emerged - improvement in rehabilitation funding regimes and the increased use of structured settlements. Martin Buffell, president of the Forum of Insurance Lawyers was quoted as saying: “The lump sum form of settlement has had its day. The ruling should ensure plaintiffs are paid on an annual basis for their needs rather than compensating on the basis of guesswork and hypothesis.”2 David Mason of Capsticks said: “The solution is structured settlements.”
Though the solution was in hand, insurers, attorneys and judges have been slow to come around the learning curve. In May, the Association of British Insurers held a seminar on the use of structures which included representatives of the US-based National Structured Settlement Trade Association (NSSTA), the British structured settlement industry, life insurers and property/casualty companies. Structures have been a part of the fabric of claims settlement in the United States for almost 20 years. According to a recent study by the Insurance Services Office, structured settlements are now used in more than 12% of all personal injury cases, and in more than 20% of all cases with values above $1 million.
NSSTA past president, Paul Hoffman, says the environment for structures is more favorable in the UK than it was in North America at the same stage of development. Though structures developed in an historically high interest rate environment in the US, the fact that interest rates have come down has not been a deterrent to the use of structures. Claimants can always achieve a better rate of return after tax than with a conventional investment. The funding is guaranteed, inflation-proof, and will continue to pay over the life of the annuitant. Moreover, there is no mortality risk and no reinvestment risk for the claimant.Andy Larsen of GE Capital Assurance says that unlike standard risks, the impaired life risk plays a major role in this market - the physician is as important as the actuary, when pricing these risks. Some level of expertise in these areas coupled with financial strength are the keys to success as income distribution products are developed, and there will be greater innovation to meet the needs of the claimant.
More importantly, he notes that there is a public policy dimension to structured settlements. Recipients of lump sum settlements and awards too often dissipate their funds. They often have to fall back on social programs to provide for their living and medical needs. Structured settlements can avoid those situations.NFU Mutual actuary, Anthony Carus says the UK life sector has very limited experience in servicing the impaired life market. Underwriting in a price-sensitive market is the main risk. “This is not a market you can dabble in. Mistakes are expensive and there is no easy exit strategy,” remarks Mr Carus. Administration is also a problem, he notes, particularly when there have to be a number of requotes during negotiation. Nevertheless, there is a genuine market demand for a bona-fide life assurance service, and some providers are accumulating exposure and expertise.
Alistair Kinley from the Association of British Insurers says that the environment for needs-based compensation is better than it was five years ago. Claimants and some of their solicitors do not fully understand the benefits of structures. Some attorneys pay lip service to the concept, while some judges hide behind their inability to impose structures, and insurers have not yet made structures an issue. “There is an opportunity to make more of structures,” says Mr Kinley, “but it will depend on the commitment and cooperation of all parties to the settlement.”
Mr Kinley recommends more education for claimants and their representatives as an important first step. At the same time, he notes that annuity providers will have to be more involved in developing products and services for the market. Liability insurers will have to adopt a more flexible approach to compensation solutions. For example, they should consider offering structures in parallel with pro-active rehabilitation. Finally, judges need to seize the opportunity of the Woolf reforms at case management conferences and use costs applications to promote and favor structured settlements.
John Parket, head of General Insurance, remarks that: “The entire debate about the Ogden tables has opened discussion about how to compensate injured people. The Associations of Personal Injury Solicitors fear the imposition of periodic payment of damages and they have called for judicial activism.” He adds: “When structures are better understood, they will be more commonplace.”
Meanwhile, structures continue to be used in many catastrophic injury cases. A London judge when presented with his first negotiated structured settlement in a case in 1991 described the settlement as “negotiated justice.” In approving the agreement, the court noted that when a case is concluded with a lump sum payment to a claimant, he is never sure whether the award is too much or too little. When the award is the result of an agreement reached by both parties based on the needs of the claimant, it must be as close to being correct as the system allows.
A girl born brain damaged after her mother was in a car crash when she was 29 weeks pregnant has been awarded more than £2 million, which will form the basis of a structured settlement.3 Following the accident, which occurred in 1990, the child's mother was taken to the hospital where she was told her unborn baby was all right. Though she seemed healthy at birth, she was soon diagnosed with cerebral palsy. Now seven, the girl is mentally and physically handicapped but her structured settlement will provide for her financial needs for the rest of her life.
Dipesh Parmar, a six year old boy, will receive £185,000 per year for the rest of his life under a structured settlement used to settle a 1991 auto accident in which the car in which the boy was riding was struck by a lorry making an illegal turn. The boy will be confined to a wheelchair and will require permanent artificial ventilation.4 Both his living and medical expenses will be covered by the structured payments.
Meanwhile, the structured settlement concept has spread to insurers in Australia.
The Australian claims industry has enjoyed a culture of negotiation in the past, but the cost of litigation has spiraled in recent years. Medical malpractice insurance rose 5% last year to $30,000 for some specialists. That number is up from an average of $60 in 1972. Last year, the Royal Australian College of Surgeons5 called for an overhaul of the civil justice system as it pertains to medical malpractice claims. Among their recommendations was a call for Parliament to allow the ability to use structured settlements.
The Structured Settlement Group, a lobbying coalition composed of the Australian Plaintiff Lawyers Association, the Insurance Council of Australia, the Law Council of Australia, United Medical Protection, and Injuries Australia claims that the Australian government pays out more than $600 million a year in disability payments and health care benefits to injured people who have received, and then exhausted, lump-sum settlements. They are offering a proposal that would make structured settlements tax free in order to make them more attractive than the lump sum alternative. The group cites a report commissioned by Coopers & Lybrand which says that more than $1.5 billion was paid out each year in common law lump-sum compensation for personal injuries including 5,660 claims worth at least $100,000. The report estimates that 55% of lump-sum payments of $500,000 or less were spent within five years and 14% of payments of more than $1 million within nine years. The report also estimates that the Australian government paid out $634 million a year in welfare to claimants who exhausted their lump-sum compensation compared with the $408 million a year it received in tax on income earned from invested lump sums.
The Standing Committee on Law and Justice of the Upper House of the New South Wales Parliament6 is reviewing a series of reports recommending changes to the “green slip scheme” of the compulsory third party motor vehicle accident insurance system. One of the reports addressed the system that provides long-term care for catastrophically injured people regardless of fault. One of the main recommendations of that report is that the system be shifted from lump sum compensation to structured settlements. The report notes: “Too often lump sums are squandered, forcing the beneficiaries to scavenge what support they can from the public health welfare systems.” Though some of the recommendations are controversial, everyone seems to agree that structured settlements provide a breath of fresh air to a system in need of reform. Parliament will take up the proposals in the fall.
Randy Dyer is executive vice president of The National Structured Settlement Trade Association.
1 The Scotsman, 10/14/98
2 Daily Telegraph London, 9/12/98
3 Evening Mail, 12/19/98
4 Dipesh Parmar v. E. Castle, The Lawyer, 4/19/99
5 The West Australian, 11/4/98
6 Newcastle Herald, 1/3/98